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Wednesday, May 23, 2018

Salutica - Temporary Setback in 3QFY18

Investment Highlights

We maintain BUY on Salutica with unchanged forecasts and fair value of RM0.82/share, pegged to a CY19F PE of 15x. Notwithstanding a potential weak Q4, we believe the recent selldown of Salutica shares is overdone. We are optimistic about the group’s next FY performance, as the company is expected to launch several new products by 2QFY19.

Salutica's 3QFY18 core net profit dived into the negative territory, registering a core net loss of RM0.1mil. This brings 9MFY18 net profit to RM12.3mil (-27% YoY), accounting for 85% of our full-year forecast. We remain sanguine that earnings will return to profitability in the next quarter given that 4Q is historically a stronger season compared to 3Q.

Recall that Salutica’s key customer launched a new set of cableless earbuds in September last year. The earbuds, plagued by connectivity issues, received subpar ratings from several online reviews. This has resulted in a lukewarm response for the product, which has taken a toll on the group’s performance this year, including this quarter.

To rectify the issues, both Salutica and its key customer have been collaborating to redevelop the product, incurring higher research and development (R&D) expenses and overtime charges. In addition, the quarter’s profitability was further hit by increased marketing expenses for its inhouse products (FOBO). As a result, the group’s NPM has narrowed from 8.7% in 9MFY17 to 5.6% in 9MFY18.

On a brighter note, Salutica has secured two new customers in the wearable and headset segments. The group is currently in the product development and prototyping stage, and expects the commercial launch in 2QFY19. In addition, its existing key customer is expected to launch two new products in September-October 2018. This should warrant an earnings recovery in FY19F.

Over the longer term, we believe the company would benefit from: i) an accelerated uptake of wireless Bluetooth earphones sparked by the removal of headphone jacks and the availability of near-field communication (NFC) technology; and ii) the rising adoption of Salutica's inhouse tyre pressure monitoring system (FOBO) to ensure safety of drivers.